Breaking down the "financial freedom" dream

A calculation that will give you a new perspective on what financial independence means...

Lots of people dream of being “financially free”. But for most of them, it's never more than a dream – not because it's impossible, but because they never work out what it actually means.

They just assume they need to have millions in the bank, which seems unrealistic so they don't really try. Or they plug some numbers into a typical retirement calculator, and are shocked by the result they see.

That's never going to work. The only way to achieve something is to get very clear on what you want, work out what you need to do to get it, then break it down into manageable chunks.

This quick exercise is an example of one way you can start breaking it down.

How much do you earn?

Do you know how much you earn from your job?

Sounds like as silly question: you know “I make £XXk per year”. Everyone knows their annual salary, everyone strives to improve it, and (more than they should) they judge their self-worth by it.

But I want you to work out how much you actually take home from your job per day – because it will make you view your financial choices in a very different way…

There are 253 working days in 2018. So divide £50,000 by 253, and you're earning £197.62 per day.

BUT…

Tax.

Ignoring pension contributions, bonuses and other such wrinkles, on a salary of £50,000 you'll only take home £37,015.88 after income tax.

Divide that by 253 working days, and you learn that by giving up the time between dragging yourself out of bed in the morning and collapsing on the sofa at the end of the day, you end up with £146.30 to show for it.

(Out of which your travel to work could easily be at least £10, a coffee at the station £3, lunch £6…)

At this point, it's worth working out your own daily take-home. Do it like this:

Go to this salary calculator and enter your annual salary – plus details of any pensions etc. if you want a more precise answer

The box “Daily” in the “Take home” row gives you your daily post-tax number

If you want to get more realistic, deduct the daily costs you only have because of work (like travel)

Why does it matter?

This might seem pointless, and maybe a bit depressing too. But here's why I think it's so useful…

If you're taking home £146 per day then, in theory, every £146 you save or earn outside your job means a day you don't need to work.

Sell a bunch of stuff on eBay for £150? Day off work so you can go to the kids' sports day

Cut your spending by £2 a day by walking instead of getting the bus? 2 days off work so you can take the family for a long weekend away

Premium Bond win of £250? Three half-days off to spend time working on your own projects

This is the point: Every £146 you save or earn from your investments means a day doing something you'd rather be doing than working at your job.

Of course, it doesn't work quite like this because most people don't have a job flexible enough to just take off random extra unpaid days. But let's take this a step further…

What does a four-day week cost?

Let's say you quite like your job, but you want to drop down to working four days per week.

There are 52 weeks in a year, so to take off 52 extra days you'd need to earn £7,592 (52 x £146).

(Again, you can calculate the cost for yourself by taking your own daily number and multiplying it by 52. Or if you want to take an extra month off every summer, multiply it by 30 – or whatever else you want.)

How can you bring in £7,592?

Have £150,000 in investments earning 5%pa in interest, or…

Have £100,000 in investments earning 7.3%pa in interest, or…

Have the income from two average rental properties

You can also combine earning extra income from investments with savings from spending less.

For example, if you can find a way of trimming your costs by £2,000 per year (about £5 per day), you'll only need to bring in an extra £5,592 to fund your four-day week – which takes about £40,000 off the value of the assets you need to have generating income for you.

First steps to a better life

Working this out has achieved two things.

Firstly, you now know exactly what you're getting in return for a day at work (especially if you deduct your travel and other work-related costs for greater accuracy) – and if you don't like the answer, you'll be more motivated to put in the hard work of making a change.

And secondly, you've got a way of breaking a seemingly impossible task down into manageable chunks. And those chunks are meaningful, because you don't need to be completely financially independent for your life to change for the better.

A rental property bringing in £300 per month might seem such a long way from “financial independence” it's not even worth bothering with…but it sounds much better when you realise that it replaces two days of work each month.

Trimming some of your bills and saving £150 per month almost doesn't seem worth it at all because it barely pays for a night out…until you realise that it equates to an extra week's time to yourself every year.

That's why it's worth focusing on passive income, and worth focusing on how you spend your money, even if you're only working with small amounts to start with.

Go to the salary calculator to find out your own number, set your own meaningful goal, start working towards it…and when you achieve it, move on to the next one. “Financial independence” might be a long way away, but your life will improve with every step towards it.

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